Are Banks Fleecing SMBs with High Foreclosure Rates?

India’s banking system appears to turn a blind eye towards SMBs. This in spite of the government regularly drawing up schemes to provide financial support to the sector that contributes a third of the country’s exports and gives jobs to nearly half the working population. The latest in this narrative is that private banks are making it tough to foreclose loans. 

The Federation of Indian Micro and Small and Medium Enterprises (FISME) has accused these private sector banks of levying steep charges when SMBs approach them to foreclose loans. And the irony is that these moves come at a time when enterprises are tackling higher input costs on the one hand and a fund crunch on the other. 

FISME secretary general Anil Bhardwaj says these hidden charges imposed by private banks are adding to the working capital pressure and the association has already approached the Union MSME ministry for redress. Foreclosure charges are levied by banks on customers seeking to pay off the entire loan ahead of the full tenure. 

Where is the small print?

The industry association said SMB customers seeking to dissociate from a bank due to poor service or high lending rates are usually the targets of high foreclosure rates. FISME says it had received at least 50 such cases over the past month and accused private banks of coming up with a new clause on non-compliance charges. 

While the RBI allows banks a foreclosure penalty for term loans for businesses, this new charge is not intimated to borrowers at the time of signing up. It is thrown at them when companies seek to exit the association, says Bhardwaj adding that in one case for a loan of Rs.3 crore, the non-compliance costs was Rs.50 lakh. 

The association squarely named Axis Bank and HDFC Bank as the biggest culprits though others such as IDFC First Bank, IDBI Bank, Yes Bank and IndusInd Bank too imposed these charges. FISME says these foreclosure charges were against the banking code of conduct for SMBs, to which both public sector and private banks are signatories. 

What do the banks say? 

Apart from sharing the standard statements around how the banks do not practice anything that is inconsistent with regulations, there is nothing much coming from that side. And one does not expect them to admit to any such practices. A factoid is that most private banks do claim an increase in their exposure to the SMB sector, which does not translate to a growing affection between the two parties but more a sign of desperation with public sector banks. 

And why is that so? 

For starters, public sector banks too are two-timing the SMBs in some ways. An MSME owner who has run his business for over a decade tells us that the union government had announced the Mudra Loan scheme in 2015 for non-corporate, non-farm businesses seeking working capital of up to Rs.10 lakh without collaterals. 

The Mudra website details out several achievements such as sanctioning over 80 lakh cases and disbursing over Rs.53K crore to such enterprises. However, there is a catch as some of the banks, when approached with the sanction letter, ask you to open an account and promise to release the amount only after they open a regular loan account. 

It’s a matter of interpretation

Bank officials privately confirm that often it is a case of interpreting the rules, which ends up contrary to the code of conduct that these lending institutions signed with RBI. For example, if one were to foreclosure a business loan from a personal account in the same bank, the manager could shrug off the higher charges. 

At the same time, if one started a relationship with a new bank and then used funds from this association to prepay an existing loan with another bank, the latter would bare their fangs and charge the foreclosure rates as well as the non-compliance costs. When queried on when the banks explain these in detail at the time of disbursal, they answer in the affirmative. 

However, here lies the catch, given that most SMB owners approach the banks for loans when the going gets tough. And officials tasked with explaining the rules do so, but to a customer who is probably only hearing and not listening to them. The difference being that in the first case they just want to get it over with and have the money in their bank account. 

On their part, FISME and other SMB associations have continuously approached the banking industry ombudsman for redress but found that even appeals were restricted. Bhardwaj says they often approach the development commissioner at the MSME ministry for help when confronted with such cases. 

But all is not lost according to FISME. While ICICI Bank has discontinued the foreclosure charges, Kotak Mahindra Bank is working to resolve pending cases.